Answer to Question #47638 in Macroeconomics for LENKACHAN

Question #47638
Acartel is often an unstable relationship as individual members both seek andseize the opportunity to cheat on the agreement and improve their own positionat the expense of others. Assume that the OPEC oil cartel becomes subject tothis tension or conflict such that the cartel gives way to a more competitiveoil market resulting in a dramatic decrease in the world oil price. As aresult Australia experiences a significant decline in the rate of inflation Using the aggregate demand - aggregatesupply framework, consider the likely response of the Australian economy interms of the rate of inflation, the level of real GDP and the unemployment ratein both the short run and the long run. Your answer should be in two partsconsidering first, the outcomes without the lower inflation rate causing achange in potential output and then secondly, allowing for such a change inpotential output.
Expert's answer
When we look at oil prices in terms of consumer inflation, we now realize that this is one of the strongest components why the Consumer Price Index is collapsing and now we are on precipice of a dangerous bout of deflation. The menace of deflation is that it renders any and all debts dangerous and a country as indebted as ours, simply cannot risk that prospect.
Over 20 percent of the index is based on items sensitive to energy prices and transportation.
The level of real GDP will also rice, because transportation costs will decrease significantly. The unemployment rate will also fall, as due to the real GDP increase the more jobs will be available in the economy.

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